Why sustainability hinges on good accounting

A shared understanding of basic metrics underpins debates across sustainability. Are X’s emissions more or less than Y’s? And does that mean they are doing enough to combat climate change? To even begin debating this, organizations need to “account” for sustainability by measuring, quantifying, and reporting their position and progress.

They do this using sustainability accounting frameworks. While financial accounting focuses on “internal impact”—i.e., the financial value of a company—a significant part of sustainability involves looking at a company’s external impacts and dependencies. These frameworks are diverse, ranging from mandatory to voluntary standards, and focused on different entities, from companies (e.g., the Taskforce on Climate-related Financial Disclosures) to nations (e.g., the UN’s System of Environmental-Economic Accounting). Yet they are united by their focus on organizing non-financial information, which provides the bedrock for productive decision-making and debate—for example, by unifying calculations of a company’s GHG emissions to inform decarbonization plans, or the number of refugees to coordinate humanitarian efforts.¹ If we can trust the numbers, we can then debate what they mean.

However, wrangling disparate and often complex data into consistent information is no mean feat. It requires effective frameworks that meet four design principles:

1. Simple but watertight: Simplicity in calculations, definitions, and obligations increases auditability. Simplicity also minimizes the operational burden of implementation. However, this should not come at the expense of watertight rules and processes that ensure accounting methodologies are consistent across companies.
2. Transparent: Clear rules make the disclosures comparable across firms, and therefore, more useful. For instance, giving companies too much leeway regarding the underlying assumptions for emissions disclosure can make it difficult to compare firms even in the same industry.²
3. Flexible or revisable: New metrics and methods are constantly available across sustainability issues, and frameworks need to be either flexible enough to naturally accommodate changes, or be easily revisable. An example is the EU taxonomy, whose definition of sustainability for some activities tightens over time (e.g., falling emission thresholds).
4. Centered on materiality: Concentrating on material issues—be they financial impacts on a company’s balance sheet or a company’s impact on society—ensures frameworks stay focused on what really matters.

Sustainability frameworks are increasingly breaking into the mainstream of disclosure practices.³ A representative example is the recent effort to create sustainability-related financial reporting standards through the International Sustainability Standards Board (ISSB). With a mandate backed by the G20 and financial accounting standard-setters, the ISSB released its first set of standards in 2023 and is poised to drive their adoption during 2024.⁴

Sustainability accounting frameworks are also branching into new and complex areas. One example is “impact accounting.” It is driven by groups such as the Value Balancing Alliance, which aims to quantify a company’s financial, social, and environmental performance in monetary units.

Sustainability accounting frameworks are at an early stage of development compared with modern financial accounting standards. Even after becoming mainstream, many still suffer from teething problems regarding the methodology they use to account for impact.

The challenges faced while defining the “scope” of a company’s impact offer a good example. Scopes can refer to all types of a companies’ impact, from waste to air pollution, but most are familiar with it in the context of a company’s greenhouse gas (GHG) emissions. There is comparatively little debate around what constitutes a company’s “Scope 1” and “Scope 2” emissions, which refer to its direct emissions and those generated by producing the energy it consumes, respectively. A trickier area is defining “Scope 3” impacts, which refer to emissions from assets not owned or controlled by a company (i.e., in its value chain), such as its customer’s emissions or waste from using its products.

Take banks; their Scope 1 and 2 impacts are relatively easy to calculate, but Scope 3 impacts present a challenge due to banks’ complicated value chains. Capital flows to every sector of the economy, which means value chains financed by banks quickly become difficult to trace. For a large bank, Scope 3 in practice would cover almost every economic sector (from transport to real estate) and impact category (from emissions to waste, water consumption, and land use). Their Scope 3 impact can therefore represent significant chunks of the negative externalities generated by whole economies.⁵

Even with clear definitions, simply calculating firm-level emissions is complex. It requires large datasets and widespread estimation where there are disclosure gaps, adding a layer of uncertainty.⁶ Complexity creates an irreplaceable role for audit functions to ensure the accuracy of sustainability data, a challenge which the profession is wrestling with as EU sustainability disclosure legislation progresses.^7,8

Emissions represent just one example, and further issues exist in other areas of sustainability. When collecting diversity data, for instance, privacy and ethical concerns are paramount for many organizations. Collecting certain types of sensitive data on personal attributes can be deemed illegal in some countries or fall foul of privacy laws.⁹

These issues underscore the need for reasonable and practical (“good”) accounting frameworks in sustainability. The four design principles outlined above are a useful checklist for standard setters. They ensure sustainability accounting frameworks make ESG data and its use comparable based on common methods—the basis for productive discussion and decision-making.

The author thanks the following for their input: Jackie Bauer, Judson Berkey, Andrew Eddy, Christian Leitz, Richard Mylles, Teresa Nielsen, Mike Ryan, Antonia Sariyska, John Simmons, Maya Ziswiler.

1. Such as the GHG Protocol and UNHCR (2023), Measuring forced displacement and statelessness
2. Jia, J. et al (2023), Designing for comparability: a foundational principle analysis of missing carbon in reporting systems, SSRN.
3. Lamberton, G. (2005), Sustainability accounting—A brief history and conceptual framework, Accounting Forum.
4. IFRS (2023), New and updated resources to help companies apply IFRS S1 and IFRS S2 from 2024.
5. Accenture (2022), Banking for net zero: Taking a lead role in executing on sustainability commitments.
6. LSEG (2023), Decarbonisation in equity benchmarks: Tracking the portfolio carbon decarbonisation.
7. Lepere, M. et al. (2023), Emissions gaming? A gap in the GHG Protocol may be facilitating gaming in accounting of GHG emissions, Kings Business School
8. Verney, P. (2023), Auditing uncertainty: Are assurers prepared for CSRD? Responsible Investor.
9 Favaro, B. et al (2023), Diversity monitoring: A global view

For further information, please visit www.ubs.com/institute-disclaimer